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How to plan financially for children with special needs

Providing for children with special needs has become more complicated than ever. Unlike in days past, modern healthcare now routinely allows a large majority of those who experience disabilities to outlive their parents.

This is good news, of course, but it presents a dilemma to many of these parents. They recognize that our aging population is relentlessly increasing the budgetary pressure on public assistance in all forms.

Yet their children, like most Americans with disabilities, rely on federal and/or state payments and programs to meet the challenges of everyday life.

The means test

While most parents with the means will want to provide for their children's needs now and in the future, the future becomes problematic for children with special needs since many public services may require that a financial means test be taken in order to qualify for benefits.

If a child with special needs has "too many assets or too much income," he or she may have to spend down those assets on private services before passing the financial means test. This could necessitate impoverishment.

Furthermore, if "free" public services were later cut back or discontinued entirely, then the child would be left impoverished without his or her own means to obtain the special services needed.

For this reason, extra care must be taken when selecting how investments and savings are going to be owned and viewed by financial means testing.

Assets owned outright by a child or parents are first considered available by financial means tests. Assets held in certain trusts or in life insurance cash values are usually excluded from means testing.

However, if such assets later become the child's property or income, then they fall under means test scrutiny.

Newborn baby Makenzie, daughter of Stephanie Sanchez, 25, and Kenneth Vega, rests in a nursery after she was born at 10:25am at Wyckoff Heights Medical Center in the Brooklyn borough of New York October 31, 2011. The world's population will reach seven billion on October 31, 2011, according to projections by the United Nations, which says this global milestone presents both an opportunity and a challenge for the planet. While more people are living longer and healthier lives, says the U.N., gaps between rich and poor are widening and more people than ever are vulnerable to food insecurity and water shortages.  REUTERS/Lucas Jackson (UNITED STATES - Tags: SOCIETY HEALTH)
Consider your child's ability to manage money. (Photo: REUTERS/Lucas Jackson)

The role of life insurance

When set up correctly, cash value life insurance (whole life, universal life, and variable life insurance) might provide a good funding vehicle to provide cash for short-term needs and a legacy that can be sheltered from means testing in a special-needs trust.

However, you need to compare policies, benefits, costs, and investment choices to find the right balance for your financial needs and to avoid adverse income tax consequences.

Name a guardian

While special-needs children are young, it is important to provide for guardianship in the event of an untimely death of the parents.

This is accomplished by naming guardians for children in the parents' wills. Careful consideration must be given to who should serve as guardian, and of course, this should be discussed with potential guardians before their inclusion in a will.

You may also want to provide a means for your selected guardian to care for your child. Life insurance and/or a trust should be considered for this purpose.

Maintaining eligibility for government assistance is an essential, overarching principle in all financial and estate planning for families with disabled or special-needs children.

But this critical consideration should not obscure other decisions. Since disabled individuals increasingly have normal life expectancies, parents want to ensure that good care of their special-needs children will continue after they are not here to provide it themselves.

How well does your child handle money?

When bequeathing assets to special-needs children from property, investments, or insurance proceeds, consider the child's ability to manage money as well as the effect the inheritance will have on the financial means testing to qualify for public services. It is often better to create a supplemental needs trust to avoid problems.

The word supplement is the key concept in understanding this estate-planning and financial-planning tool, which is also called the special-needs trust.

Since the trust document requires the trustee to use trust funds only to enhance the beneficiary's quality of life by supplementing—not replacing—whatever minimal, means-based benefits are provided by federal and state agencies, its value is excluded from means testing.

Dive deeper: Having a baby? Here's how to plan financially

This content was created in partnership with the Financial Fitness Group, a leading e-learning provider of FINRA compliant financial wellness solutions that help improve financial literacy.

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